The cash flow cycle is the process of moving money in and out of a business. A business expends cash in creating goods or in the supply of services sold to customers. This is cash outflow.

On the other hand, cash inflow occurs when a business collects cash from its sales to customers and uses that cash to manufacture more goods or render more services, therefore, restarting the cycle.

The idea is to ensure that cash coming in exceeds cash going out. That is the basis of being profitable. Unfortunately, things are never as easy as they seem, because both cash inflow and outflow move in cycles, the challenge is always to ensure your business is not in a situation where outflow significantly exceeds inflow for any extended period.

Despite most businesses having a primary inflow of cash from the sale of goods or services, other sources can also provide inflows, such as from:

  • A bank loan,
  • An investment in funds from stakeholders,
  • A line of credit, and
  • Cash outflow can result from:
  • Paying for materials to manufacture goods
  • Cost of buying Stock
  • Acquiring fixed assets
  • Salaries and expenses
  • Tax payments and
  • Loan repayments, among others…Cash flow management is crucial to the health of a business and collaterally to the relevant national economy overall.

Common Cash Flow Problems

What causes cash flow problems? What are the common problems that, if not attended, could lead to dire consequences? Clearly, when a business has insufficient cash to pay its current liabilities, or when the cash going out of the business consistently exceed the cash coming in. Much has been written on cash flow management, from which we learn that common problems leading to negative cash flow situations are:

Falling Profits

The most common cause of cash flow problems, because revenue from the sale of goods and services is the most important source of cash for any business. When the business makes relatively lower profits over time, either because of competition or mismanagement, it will lead to serious cash flow problems. An overaggressive market penetration strategy that involves cutting prices to gain market share can go wrong when not properly managed. Businesses might take on additional loads or credit from suppliers but in most situations, making losses consistently will eventually lead to failure.

Too much Stock

For automotive businesses, holding too much Stock can also tie up cash flow significantly. The need to hold enough stock to meet demands or to negotiate better prices by buying in bulk have to be balanced against the risk of the current stock becoming obsolete. A robust stock management system with a regular review is often necessary to ensure that minimal cash is tied up in dead stocks.

Over investment in capacity or overtrading

This occurs when businesses spend too much on fixed assets, usually difficult to convert back to cash when needed. Having the biggest, most impressive showroom does have a positive effect on brand image but to do so with expensive short-term finance can be suicidal if it does not translate into more profits quickly enough. Another example is a business expanding too quickly. This is usually a result of a successful run, encouraging the business to extrapolate current sales revenue without considering diminishing returns. Classic

examples are new dealerships, driven by overconfidence, opening many new outlets or showrooms, increasing rental expenses, stock, employee headcount and renovation costs.

Seasonal demands or unexpected changes

As with many industries, the automotive retailer is often subjected to fluctuating seasonal demands such as tax-season or year-end demands. This is one of the most challenging problems facing automotive dealers. Too many dealers expecting increased or decreased demand could lead to entire industries overstocking or missing opportunities. Sudden changes in government legislation or economic conditions can also affect business drastically. To effectively manage continuing cash flow, it is important for businesses to regularly analyse their cash flow situation and identify possible problems before they happen. Preparing a cash flow budget is one the most effective ways to help support prediction of future needs.

Analysis of the Cash Flow Cycle and Prediction

Analysing cash flow generally involves looking at the following items honestly and realistically.

  • Accounts receivable
  • Credit terms and policies
  • Stock
  • Accounts payable

It is never easy to make a forecast, but knowing what to do when things go wrong is the key to a successful strategy. Optimism is when you look only at a best-case scenario, but confidence is when you know what to do in a worst-case scenario.

A cash flow budget is a document that projects monthly anticipated cash inflows and outflows. Although this can also be applied to daily, weekly, semi-annually, annually or even longer periods of forecasts, six months to a year ahead is usually the ideal period for most businesses to be sufficiently prepared while providing enough lead time to take corrective measures if needed. The danger of looking too far into the future is that one might ignore more immediate perils.

Because a business should model its cash flow for a full financial year, the best time to begin planning is at the end of the third quarter of the current fiscal year for the next. These projections or forecasts can be used to make the following decisions:

  • Investment on fixed assets like equipment and facilities
  • Increasing employee head count
  • Changing costs of doing business such as insurance costs, interest payments, expendables, security, and maintenance, among others.
  • Negotiations with banks and credit providers
  • Production schedule and stock plan

How to Improve Cash Flow?

There are three ways help improve cash flow, and each is driven by different strategies and approach.

  • Accelerating cash inflow. This involves selling more, either in terms of volume or profit margins or both. Businesses can also improve receivable terms by collecting cash faster or in advance.
  • Delaying cash outflow. This involves evaluating your terms of payment and negotiating more favourable terms of credit or longer payment terms with vendors, suppliers and manufacturers.
  • Reducing cash outflow by reducing expenses or costs of doing business. This involves finding more efficient ways to run the business by employing new technology or processes.

It is fine to increase working capital with short-term credit so long as the business is confident (not just optimistic) there will be sufficient cash to amortise or pay back the loan.

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Craig Rowney
Craig leads our Performance Consulting division and has built a reputation for the development and delivery of innovative consulting and training solutions in the automotive and motorcycle industry at both OEM and retail level. Craig spent 7 years as the Director in charge of Consultancy at Deloitte Motor Industry Services and prior to this, 8 years in Sales and Marketing and Dealer Development with Mitsubishi Motors and Toyota Australia. This experience has been supplemented with a stint in retail allowing him to bring a unique perspective to consulting and training. Craig has worked with the majority of brands in Australia and many of the country’s largest Dealer groups and extensively in Asia.